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John Hussman wrote an interesting article for his fundholders this week, dealing with his investing strategy, as well as his outlook. He seems very bearish, although he isn't certain of any particular outcome.

So again, the 900 area on the S&P 500 has been both a buy level and a sell level for us, depending on the context of market action and economic fundamentals. The same will probably be true of other levels on the S&P 500 except for the most extreme over- and undervalued possibilities. It is not possible to identify where we would be buyers and where we would be sellers. Context matters.

What about the March low? Given the recent advance, shouldn't investors treat that as an “absolute” buy level now? While it may sound absurd, it is not at all clear to me that the March low was the final low of the current cycle. Yes, it might have been (and we are willing to accept some amount of market exposure if our measures of internals improve), but I believe that investors should not rule out even the 500 level on the S&P 500 as a plausible outcome over the coming 18 months. If you study the fundamentals of this economy – particularly the debt burdens, the narrow margin by which many debtors are above water, and the adjustable rate reset schedule – there is far more to be concerned about than might be gleaned from sentiment surveys like consumer confidence or even the ISM numbers.

Moreover, there is a far weaker prospect for a return to 2007-like profit margins than investors seem to recognize. Economic expansions are paced not by major growth in consumption (which tends to be fairly smooth even during economic downturns), but instead by gross investment in capital goods, technology and housing, as well as debt-financed durables such as autos. Yet our policy makers have aggressively crowded out private investment through this bailout policy, which allocates good capital to the worst stewards, and they have done virtually nothing to abate the housing downturn. Add deleveraging pressure to that mix, and an absence of opportunity for mortgage equity withdrawals (which fed GDP growth during the last expansion), and we have an economy that is likely to produce a very stagnant recovery even if one has begun – of which I am also skeptical.

I'm also very cautious and really haven't done anything in a while. I missed out on the huge gains in the last few months but, then again, I missed out on the huge losses earlier this year as well (the market is basically back near where it started the year.)

2 Response to Hussman very cautious

Guest

June 8, 2009 at 8:03 PM

Read Hussman myself weekly. Thing about him is he's generally right in the long term but can be off by years at a time. The mortgage reset chart he's included in his weekly isn't particularly promising for the market, is it?

Sivaram

June 9, 2009 at 11:06 AM

I read Hussman on and off. I like him because he provides macroeconomic thoughts, which is in line with my interest and investing style. But his investing approach, which generally consists of owning a large portfolio rather than trying to pick stocks, is inapplicable to me and has nothing to do with what I do. You may have seen it before but his post on recession signals, which I covered in an entry a while ago, is one of his best pieces ever. The best thing about Hussman is how he is a unique thinker--sort of like Marc Faber--and is independent.

As for that mortgage chart, it's not clear to me how bad that is. A couple things to note are the following. First of all, the market may be pricing in a lot of the losses already. A lot of the financial companies have been re-priced down by a huge amount--$100 billion companies down to $10 billion at one point--and many have set aside reserves to cover quite a bit of the losses so there may not be many surprises.

Secondly, if mortgage rates do not rise (this is a big IF), they may actually be more affordable after a reset than back in 2004-2007. It is also possible that defaults on subprime will be far higher than on other higher quality loans (Alt-A, so-called "liar loans" will see losses too). Almost anyone off the street could have been approved for a subprime loan whereas, even with lax lending and fraud, Alt-A, Agency, and other, mortgages would have been harder to qualify for.

I think Hussman is correct to suggest that foreclosures are looming problem but I think this depends on the economy, wage growth, and the like. If the economy starts recovering by next year--even a bear like Paul Krugman speculates that the bottom may be hit this year--foreclosures may improve.

The big concern for me are commercial mortgages, auto loans, and the like. If there is a huge commercial real estate bust--there is already a bust but the degree is not clear to me--it will take down a lot of regional banks, which have mostly done ok so far (they weren't exposed to the toxic mortgages and the secrutization schemes.) Private equity may also be hit hard if commercial real estate goes down. Residential real-estate is much larger than commercial rea estate or some of these other issues but many are ignoring it.